The strong rally in equities and bonds since Q4 2023 suggests investors are pricing in an economic soft-landing in the US. This involves a sustained decline in inflation, enabling central banks to start cutting rates in H1 to support growth. US employment and inflation reports over the past week provided partial support to this narrative. Job markets, while resilient, are cooling. The latest US inflation report was less conclusive – while core inflation continued to edge lower, headline inflation rebounded, beating expectations. Standard Chartered said it remains constructive on US stocks and Developed Market government bonds. In the near-term though, markets are likely to consolidate as they overcome technical and geopolitical hurdles. Strong US earnings are likely to trigger the next leg of the rally. In the meantime, the house continues to see value in Japan equities and Indian bonds.
Resilient but cooling US job market: The US job report for December reflected an apparently healthy job market, with net new jobs (216,000) and wage growth (4.1% y/y) both beating expectations. However, most of the jobs were created in leisure and hospitality (which benefitted from the Christmas shopping season), education and health services and government sectors. Total job creation in the previous two months was revised down by 71,000. Similarly, the employment sub-index of the ISM Services PMI slumped to July 2020 low of 43.3, from 50.7. While the Fed would be keen to pre-empt a significant deterioration in the job market, it would be careful about easing policy too soon lest it stokes a second round of inflation.
Less conclusive US inflation report: The US inflation report was a mixed bag. While headline inflation accelerated to 0.3% m/m and 3.4% y/y, beating expectations, core inflation was unchanged at 0.3% m/m and slowed marginally on y/y basis to 3.9%. The acceleration in headline inflation was driven by shelter, used car and energy prices. We expect shelter inflation to cool over the coming months, based on market prices of existing rental contracts (which filter through to official prices with a lag), but energy prices are vulnerable to geopolitical risks, especially with escalating tensions in the Red Sea.
US earnings, Taiwan elections: US Q4 2023 earnings season is another likely market driver: major banks start reporting today. The consensus expects 5.2% rise in S&P500 earnings. Estimates have been cut going into the earnings season, lowering the bar for firms to beat expectations, which should be positive for equities. The guidance for 2024 will be key. Our preferred technology, communications services and healthcare sectors are expected to deliver the strongest earnings growth in 2024. Taiwan elections this weekend is a near-term risk for markets. Polls points to a victory for the pro-US Democratic Progressive Party – this could raise US-China tensions further.
Investment implications: Near-term consolidation aside, SC maintains a constructive stance on equities and bonds. Both assets are likely to benefit from the soft-landing narrative.
Value in Japan: The house particularly sees value in Japan equities. The market got a boost this week from a cooler-than-expected wage report, which pushed back BoJ rate hike expectations. Domestic flows into equities are expected to rise with the government’s new tax-free savings plan (NISA), while foreign investors continue to add Japanese equity holdings amid improving corporate governance, strong earnings growth and increased geopolitical tensions impacting rest of Asia.
US market re-entry opportunities: US stocks face near-term technical hurdles, with S&P500 less than 1% away from its all-time high. Strong Q4 earnings and 2024 earnings guidance have the potential to take the index to a new record. Its also looking to add to US government bonds – the 10-year yield faces near-term resistance at the 200DMA of 4.07%.
INR bonds attractive. The bonds offer one of the highest positive real yields among Emerging Markets. SC also expects increased foreign inflows after Bloomberg proposed adding the bonds in its EM local currency bond index (following similar plan by other bond index providers earlier).
